Turtle Beach Corporation (Nasdaq: HEAR) — Q3 2019 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2019. The filing is unaudited. Turtle Beach sells gaming headsets and, following its May 2019 acquisition, gaming keyboards, mice, and accessories under the ROCCAT brand.
Financial performance
| Metric | Q3 2019 | Q3 2018 | Nine months 2019 | Nine months 2018 |
|---|---|---|---|---|
| Revenue | $46.7 million | $74.4 million | $132.9 million | $176.1 million |
| Gross profit / margin | $15.0 million / 32.2% | $30.5 million / 41.0% | $43.0 million / 32.4% | $65.8 million / 37.4% |
| Operating income (loss) | ($2.5 million) | $16.5 million | ($3.0 million) | $28.6 million |
| Net income (loss) | ($3.1 million) | $14.9 million | ($2.4 million) | $14.6 million |
| Adjusted EBITDA | $0.3 million | $17.6 million | $6.2 million | $32.7 million |
| Basic diluted EPS | ($0.22) / ($0.22) | $1.07 / $0.91 | ($0.17) / ($0.17) | $1.10 / $1.05 |
Revenue declined approximately 37% in Q3 and 25% for the nine-month period year over year. Cash margin, a company-defined non-GAAP measure, was 33.6% in Q3 and 33.4% year to date, versus 41.3% and 37.8%, respectively, in 2018.
Cash flow, balance sheet, and debt
- Operating cash flow was $27.3 million for the first nine months, compared with $43.4 million in 2018. Investing used $14.3 million, including $12.7 million for ROCCAT and $1.6 million in capital expenditures. Financing used $12.8 million, including $10.8 million in net revolver repayments and $1.9 million in share repurchases.
- Cash was $7.0 million at September 30, 2019. The revolving credit balance was $26.6 million, down from $37.4 million at year-end 2018; cash less revolver borrowings was approximately negative $19.5 million.
- Current assets were $108.0 million and current liabilities $84.5 million, implying working capital of approximately $23.5 million. Inventory rose to $67.0 million from $49.5 million at year-end, principally to prepare for holiday demand.
- The credit facility matures in March 2024; reported excess borrowing availability was approximately $31.0 million. The company said it was compliant with financial covenants and believed cash, revolver availability, and operating cash flows would cover anticipated needs for at least 12 months, subject to assumptions including no material adverse business developments.
Material changes and management commentary
- Management attributed weaker results to a pullback from prior-year, battle-royale-driven record demand, a generally declining gaming-accessory market, and lower sales. It also cited increased promotional activity, product mix, reduced fixed-cost leverage, refurbishment and warehouse costs, and higher marketing spend.
- North American console market revenue share was reported at 42.2% for the first nine months; the Stealth 600 remained the top-selling console model, and the Recon 70 had recently launched.
- ROCCAT contributed $5.1 million of revenue and a $2.5 million operating loss from acquisition through September 30. The approximately $12.7 million purchase included up to $3.4 million of potential revenue-based earn-outs. Acquisition and integration expenses were $3.0 million for the nine months.
- Net income comparisons were affected by warrant accounting: 2019 nine-month results included a $1.6 million unrealized gain, while 2018 included an $8.4 million unrealized loss. In March 2019, the warrants were amended and reclassified from a liability to equity.
- Management describes the business as seasonal, with historically 45%–55% of sales in Q4. Microsoft’s next-generation Xbox and Sony’s PlayStation 5 were expected for holiday 2020; the filing does not provide quantified financial guidance.
Risks, contingencies, and unusual items
- Key risks include dependence on third-party console platforms and game releases, intense competition and pricing pressure, seasonal forecasting and inventory exposure, and reliance on a limited supplier base. The company also highlighted potential tariffs affecting products manufactured largely in China, Brexit-related uncertainty, and foreign-exchange exposure.
- A shareholder class action related to the 2013 merger remained subject to court approval of a settlement announced October 11, 2019; proceedings and deadlines were stayed. The company recorded no accrual, stating a loss was not considered probable and a range could not be reasonably estimated.
- Bigben Interactive appealed a German court judgment dismissing its €5.0 million-plus-interest damages claim; the company said it would continue to defend the matter. No accrual was recorded, and the possible loss range was not reasonably estimable.
- Uncertain tax positions were $3.5 million, including $1.2 million of interest and penalties. The company also reported $3.0 million of operating lease liabilities and $1.5 million of contingent consideration on its balance sheet.
Most important facts for investors to verify
- Whether sales and gross margins recover after the unusually strong 2018 comparison period, particularly through the holiday season and ahead of the 2020 console launches.
- Whether elevated inventory converts to sales without further markdowns, returns, or obsolescence charges.
- ROCCAT’s progress toward profitability and the final acquisition valuation and earn-out obligations.
- Borrowing-base availability, covenant compliance, and liquidity under weaker sales or higher returns.
- The final outcome and potential financial impact of the shareholder settlement and Bigben appeal.